July is usually one of the two key surplus months for the public purse but official data on Thursday showed public sector net borrowing of 8.016 billion pounds last month, confounding market forecasts for a deficit of just 500 million pounds.
The Labour government, trailing the opposition Conservatives in opinion polls with an election under a year away, said the figures were broadly in line with its 2009/10 forecasts, which point to record high borrowing of 175 billion pounds.
The election debate will inevitably focus on how to cut government spending and reduce record levels of borrowing due to the huge stimulus Britain has pumped into its economy since the financial crisis worsened last year.
While slumping government income illustrates just how deep the recession has been and the tough task facing any future administration in tackling debt levels, there is mounting evidence the downturn has run out of steam.
The Office for National Statistics said retail sales rose twice as fast as expected in July as furniture and electrical stores enjoyed a bumper month.
Retail sales rose 0.4 percent in July, taking the annual rate up to 3.3 percent—its highest rise since May 2008.
Household goods sales gained 4.5 percent on the month, their biggest rise since August 2006.
"The gains in retail sales give us greater confidence that GDP will rise in the third quarter, meaning that the UK exits recession," said James Knightley, an economist at ING.
A Reuters poll of economists on Thursday concurred with that view.
Headwinds
The strong retail sales reading, however, does not settle the debate on whether the Bank of England will further expand its quantitative easing programme, having boosted it to 175 billion pounds from 125 billion pounds this month.
BoE Governor Mervyn King could not persuade a majority on the Monetary Policy Committee to increase the asset-buying programme by even more than that, but policymakers are clearly concerned about significant downside risks to any recovery.
An expected combination of tax hikes and spending cuts in the coming years to reduce the government debt burden is among those risks.
"The necessary fiscal consolidation is going to be a huge constraint on the economic recovery," said Vicky Redwood, an economist at Capital Economics.
Ongoing slow bank lending is another key concern for policymakers, despite massive support from the authorities to help Britain's banks heal from the credit crisis.
Figures from the Bank of England underlined the problems facing cash-starved British companies. Net lending to businesses fell for a third month in June and lending was probably down again in July, the BoE said.
Finance Minister Alistair Darling took a sanguine view on the borrowing figures, saying they reflected the economy's exceptional weakness earlier this year.
The public deficit for the fiscal year so far stood at just under 50 billion pounds, more than three times the level in April to July last year.
"They (the figures) are consistent with the fact that the downturn at the beginning of this year and end of last year was very severe," Darling told reporters in Edinburgh.
